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USE THE FOLLOWING PROJECT CASH FLOWS FOR QUESTIONS 6-10: Project A Project B Pro

ID: 2624956 • Letter: U

Question

USE THE FOLLOWING PROJECT CASH FLOWS FOR QUESTIONS 6-10:

                        Project A        Project B        Project C      Project D        Project E

Today                 (20,000)        (30,000)           (7,500)         (4,000)           (6,000)

Year 1                 10,000              6,000              2,000           2,000             750

Year 2                   6,000               8,000             3,000            2,500            1,500

Year 3                    4,000              10,000         4,000             3,000             2,250

Year 4                    2,000               8,000                                  2,500             3,000

Year 5                     1,000              6,000                                   2,000            3,750

Year 6                      500               4,000                                   (8,000)          4,000

6. What is the payback period of project E?

7. What is the crossover rate between projects A and B?

8. The IRR of project D is 0%, is it a good project if the cost of capital is 10%?

9. What is the NPV of project C if the cost of capital is 6%

10.If A and C are repeatable, mutually exclusive projects, then which one is better if the WACC is 8%? a) Project A b) Project B

Explanation / Answer

6. Payback period for E = 3+ (6000-750-1500-2250)/3000= 3.50 years

7. let crossover rate = r

NPV is same at crossover rate

-20000 + 10000/(1+r) + 6000/(1+r)^2 + 4000/(1+r)^3 + 2000/(1+r)^4 + 1000/(1+r)^5 + 500/(1+r)^6 = -30000 + 6000/(1+r) + 8000/(1+r)^2 + 10000/(1+r)^3 + 8000/(1+r)^4 + 6000/(1+r)^5 + 4000/(1+r)^6

crossover rate =13.59%

8. No, for a project to be good, cost of capital shoul d be less than IRR

9. NPV of c = -7500+ 2000/1.06 + 3000/1.06^2 + 4000/1.06^3= $415.26

10. NPV of A = -20000 + 10000/(1+8%) + 6000/(1+8%)^2 + 4000/(1+8%)^3 + 2000/(1+8%)^4 + 1000/(1+8%)^5 + 500/(1+8%)^6= $44.35

NPV of B = =-30000 + 6000/(1+8%) + 8000/(1+8%)^2 + 10000/(1+8%)^3 + 8000/(1+8%)^4 + 6000/(1+8%)^5= $316.33

NPV of B is higher, and hence B is better

b) Project B